On October 7, 2000, The Globe and Mail reported that Air Canada had slashed its third and fourth quarter 2000 earnings forecasts. The company had revealed this information by phone calls to a select group of analysts. Air Canada's share price dropped by 12% on the day it revealed this information, and by another 3% on the next trading day.

The selective disclosure to certain analysts immediately produced strong negative reactions by angry investors and media, and led to calls for investigation by the Ontario Securities Commission and the Toronto Stock Exchange.

This episode was particularly embarrassing to Canadian securities regulators since, a few weeks previously, the SEC had passed Regulation FD in the United States. This is a fair disclosure regulation that prohibits material information from being revealed only to investment analysts. Canadian regulators said at the time that a similar regulation was not needed in Canada because Canadian laws already prohibited such selective disclosure.

Air Canada defended its disclosure policy by claiming that the information underlying the lower earnings forecasts (eg, higher fuel prices and increased payments to pilots) was already in the public domain. It was attempting to remind analysts that they had not properly incorporated this information into their earnings forecasts. Subsequently, Air Canada agreed to pay a fine of $1,080,000 in settlement of charges levied against it over this incident.

 Required

a. Why would Air Canada want to disclose information about lower-than-expected earnings prior to the actual release of its quarterly income statements?

b. Give two reasons why share price fell in the days following the selective disclosure

c. Explain the impact of selective disclosure practices on the operation of the securities market

d. The Globe and Mail also reported that a huge block of Air Canada shares had traded on the day prior to the selective disclosure. What problem of information asymmetry is suggested by this trade? Explain.

e. Canadian securities legislation prohibits use for personal gain of such material information by the analysts to whom it is given. Assuming that the analysts did not use the information for personal gain, do you think that Air Canada should have been charged? Explain why or why not.